Friday, July 2, 2010

Nationalization: Its Legality under International Law

Nationalization is the expropriation of the assets of a business or corporation (with or without the legal breaking of a previous contract) by a government. Issues arise when the business is based in a different nation from the national government that engages in the nationalization.

I have recently heard the peculiar view that nationalizations are so immoral that a national government should have the right to use force, invasion, occupation or political subversion to protect the assets of one of its domestic corporations from nationalization by a foreign government.

An argument to this effect in support of the idea was offered: “if an individual who owns a house in his home country suddenly finds that his house has been occupied illegally by a group of people, then he can call on the government or police to use force or violence to remove the people occupying his house. Thus nationalization of the assets of a corporation by foreign governments should be dealt with by the use of force by the national government of the corporation.”

An argument like this, however, is utterly unconvincing, because (1) the property rights, contracts or concessions that a corporation has in a foreign country cannot at all be equated with the property rights held by the owner of a house in his own country, and (2) nationalization involves conflict between foreign governments (with sovereign rights over their country’s people and resources) and private businesses, so international law is the relevant legal framework.

With respect to point (1), modern corporations that engage in direct foreign investment to exploit commodities generally have entered contractual production sharing agreements (PDAs) and risk service agreements (RSAs) in which the host government retains absolute sovereignty over its natural resources. The foreign business has no ownership rights in the way that a person owns his house in his own country. These are different property or contractual rights. In modern RSAs, a corporation provides services to the government in the form of construction of capital goods and extraction of a resource. Compensation is paid in cash, not through property rights over resources. If a contract expires and the government chooses to not to renew it, then there is nothing illegal or immoral.

Before WWII when much of the third world was controlled by European empires, colonial governments often granted concessions: contracts in which the corporation had an exclusive license to find and exploit natural commodities like oil, and to have a contractual right to ownership of the commodity it found. But such agreements often occurred after violent invasion and occupation, and after WWII newly independent nations freed from colonial rule asserted their right to ownership of their natural resources unfairly taken from them by European governments. One interesting case is Iran where the British businessman William Knox D’Arcy obtained a sixty-year oil concession virtually over all of Iran by bribing Iranian officials in 1901. In 1914, the Anglo-Persian Oil Company (APOC) was bought out by the British government when it acquired a 52.5% stake in its shares. But the British government increasingly interfered in Iran’s sovereignty and effectively controlled it through semi-colonial rule (even to the extent of maintaining its own army in Iran). Iranian attempts to re-negotiate a contract obtained by bribery were rejected. In 1951, the Anglo-Iranian Oil Company was nationalized by the Iranian government, which provoked a British and American plot to overthrow the Iranian democracy. Aside from the obvious nonsense that Iran’s contract of 1901 due to bribery was free and fair and the absurd idea that Iran’s independence was not violated by Britain, I am surprised that anyone who supports free market economics would defend the UK’s actions on private property grounds, since the Anglo-Iranian Oil Company was itself a British nationalized industry.

In regard to point (2) above, modern international law is perfectly clear: a government has the legal right to exercise control over, or to expropriate, a private foreign investment deemed in its national interest (Schrijver 1997: 289). In particular,

[c]ontemporary international law recognizes the right of every State to nationalize foreign-owned property, even if a predecessor State or a previous government engaged itself, by treaty or by a contract, not to do so. This is a corollary of the principle of permanent sovereignty of a State over all its wealth, natural resources and economic activities and proclaimed in successive General Assembly resolutions and particularly in Article 2, paragraph 1 of Chapter II of the Charter of Economic Rights and Duties of States (Aréchaga 1978: 179).

Thus foreign investors must accept the fact that, when they do business in another nation, they must accept its laws and the possible risk of nationalization of their assets. In fact, modern corporations can take out insurance against the possible losses they might suffer from nationalization, and in no sense can a foreign direct investment in another nation be legally in the same category as the ownership of a house in one’s own country.

The permanent sovereignty that nations have over their natural resources and their right to nationalization, if this can be justified on the grounds of “public utility, security or the national interest,” is fully affirmed in international law and was set out in UN General Assembly Resolution 1803 (XVII) on Permanent Sovereignty over Natural Resources (1962). The relevant part of this resolution is as follows:

The General Assembly,....Declares that:

1. The right of peoples and nations to permanent sovereignty over their natural wealth and resources must be exercised in the interest of their national development and of the well-being of the people of the State concerned.

2. The exploration, development and disposition of such resources, as well as the import of the foreign capital required for these purposes, should be in conformity with the rules and conditions which the peoples and nations freely consider to be necessary or desirable with regard to the authorization, restriction or prohibition of such activities.

3. In cases where authorization is granted, the capital imported and the earnings on that capital shall be governed by the terms thereof, by the national legislation in force, and by international law. The profits derived must be shared in the proportions freely agreed upon, in each case, between the investors and the recipient State, due care being taken to ensure that there is no impairment, for any reason, of that State's sovereignty over its natural wealth and resources.

4. Nationalization, expropriation or requisitioning shall be based on grounds or reasons of public utility, security or the national interest which are recognized as overriding purely individual or private interests, both domestic and foreign. In such cases the owner shall be paid appropriate compensation, in accordance with the rules in force in the State taking such measures in the exercise of its sovereignty and in accordance with international law. In any case where the question of compensation gives rise to a controversy, the national jurisdiction of the State taking such measures shall be exhausted. However, upon agreement by sovereign States and other parties concerned, settlement of the dispute should be made through arbitration or international adjudication.

5. The free and beneficial exercise of the sovereignty of peoples and nations over their natural resources must be furthered by the mutual respect of States based on their sovereign equality.

Thus corporations have the right to receive “appropriate compensation.” If the corporation and the national state cannot agree to an appropriate compensation, then this conflict can be settled by international adjudication. The home government of the corporation has no right whatsoever to engage in war, invasion or illegal warfare like political subversion or external sedition (I use “sedition” here in the sense of trying to overthrow the government) against the nationalizing government. To do so is itself a crime under international law.

APPENDIX

In the Charter of Economic Rights and Duties of States passed in a UN General Assembly resolution in December 1974 the principle of national sovereignty over natural resources and the right of nationalization is also affirmed. In this charter, compensation is to be offered to the foreign business suffering loss of its investments:

Article 2

1. Every State has and shall freely exercise full permanent sovereignty, including possession, use and disposal, over all its wealth, natural resources and economic activities.

2. Each State has the right:

(a) To regulate and exercise authority over foreign investment within its national jurisdiction in accordance with its laws and regulations and in conformity with its national objectives and priorities. No State shall be compelled to grant preferential treatment to foreign investment;

(b) To regulate and supervise the activities of transnational corporations within its national jurisdiction and take measures to ensure that such activities comply with its laws, rules and regulations and conform with its economic and social policies. Transnational corporations shall not intervene in the internal affairs of a host State. Every State should, with full regard for its sovereign rights, cooperate with other States in the exercise of the right set forth in this subparagraph;

(c) To nationalize, expropriate or transfer ownership of foreign property, in which case appropriate compensation should be paid by the State adopting such measures, taking into account its relevant laws and regulations and all circumstances that the State considers pertinent. In any case where the question of compensation gives rise to a controversy, it shall be settled under the domestic law of the nationalizing State and by its tribunals, unless it is freely and mutually agreed by all States concerned that other peaceful means be sought on the basis of the sovereign equality of States and in accordance with the principle of free choice of means.

BIBLIOGRAPHY

Aréchaga, J. E. de. 1978. “State Responsibility for the Nationalization of Foreign-owned Property,” N.Y.U. Journal of International Law and Politics 11: 179–195.

Hyde, J. N. 1956. “Permanent Sovereignty over Natural Wealth and Resources,” American Journal of International Law 50.4: 854–867.

Schachter, O. 1991. International Law in Theory and Practice, Martinus Nijhoff Publishers, Dordrecht, The Netherlands.